London, 22 July 2015 -- Moody's Investors Service has today assigned Baa2 long-term deposits
and issuer ratings, and P-2 short-term deposits ratings,
to TSB Bank plc (TSB). The outlook on the long-term ratings
is positive. Moody's also assigned a Counterparty Risk Assessment
(CRA) of A2(cr)/ P-1(cr) to the bank. This is the first
time Moody's has assigned credit ratings to TSB.
Moody's also assigned a Baa3 issuer rating to TSB Banking Group
plc, TSB's holding company. The outlook is stable.
The rating of the dated subordinated instruments issued by TSB Banking
Group plc is also Baa3.
TSB's baa2 BCA reflects the (1) high quality of its existing loan portfolio;
(2) protection provided by Lloyds Banking Group plc (LBG, Baa1 positive)
against legacy litigation and conduct remediation costs; (3) strong
capital and leverage metrics; and (4) very low reliance on wholesale
funding given its stable retail deposit base. These strengths are
balanced against its (1) relatively short track record as an independent
entity with limited financial history; (2) plans for accelerated
credit growth above market average within an increasingly competitive
environment; (3) high operational risk arising from the need to migrate
its IT platform within ten years; and (4) expected low levels of
profitability given the large cost base it has inherited.
A list of ratings is provided at the end of this press release.
RATINGS RATIONALE
TSB'S BCA IS SUPPORTED BY THE UK'S VERY STRONG- MACRO PROFILE
As a domestic UK bank with a large deposit and lending base, TSB's
operating environment is influenced by the UK's economic performance
and its Macro profile is thus aligned with that of the UK at Very Strong-.
UK banks benefit from operating in a wealthy and developed country with
a very high degree of economic, institutional and government financial
strength as well as very low susceptibility to event risk. The
main risks to the banking system stem from the high level of indebtedness
of UK households, which are thus sensitive to changes in interest
rates. UK banks are largely funded by deposits and banks' funding
structures have remained relatively stable in the past few years,
with slight increases in capital as well as declines in short-term
funding. The UK banking sector is relatively concentrated,
but the price-setting power of large banks is somewhat challenged
by competition from the shadow banking market.
STRONG ASSET QUALITY AND LIMITED EXPOSURE TO CONDUCT RISK OFFSET BY LIMITED
TRACK RECORD, RAPID LOAN GROWTH AND EXECUTION RISK
TSB was specifically designed to become a challenger bank after the European
Commission required LBG to divest part of its retail business in 2009.
Since European and UK authorities wanted TSB to have very strong foundations,
the bank received a high quality mortgage portfolio from LBG when it was
created. According to our calculations, TSB's problem
loan ratio as of December 2014 was 0.9%, down from
1.2% as of December 2013.
However, TSB plans a rapid expansion of its loan portfolio over
the next five years to close the gap between the scale of its infrastructure
-- it is the UK's seventh largest bank in terms of branches
-- and the size of its balance sheet, the latter placing the
bank in twelfth position among rated UK banks. Although the bank
benefits from a favourable operating environment in the UK with expected
low unemployment and relatively solid economic growth, Moody's
believes that competition will continue to increase among UK lenders.
This will make achieving growth targets more difficult and could lead
to a relaxation in underwriting standards, resulting in greater
downside risk, a credit negative in Moody's view.
As a mortgage lender, the bank currently has a very granular lending
portfolio with no particular borrower concentrations and a very low average
loan-to-value ratio of 41.5%. This
includes the 'Mortgage Enhancement' portfolio received from
LBG which is expected to boost profitability, although it is subject
to a call option once it generates GBP230 million in profits. Nonetheless,
the overall mortgage portfolio gives the bank material protection under
adverse economic circumstances.
Due to the recent establishment of TSB as an independent entity outside
of LBG, TSB's through-the-cycle performance
has not yet been demonstrated. As a relatively new independent
bank now facing a transition process to become a subsidiary of Banco Sabadell
S.A, (Baa3/Ba1 stable, ba3), a new entrant into
the UK market, TSB will face a high level of operational risk and
potentially high execution risk in migrating into the IT platform of its
new parent. Despite Banco Sabadell's track record of successfully
integrating acquired banks into its IT platform, there is always
uncertainty around the timing, costs and effect on customers and
employees of such a transition. Offsetting these integration related
risks, however, Moody's notes positively the protection
from losses arising from legacy misconduct or litigation as covered under
an indemnity provided by LBG. This limits significantly the downside
risk arising from potential fines or legal settlements, giving the
bank a financial advantage compared to peers.
Moody's also believes that TSB's management team will face
significant challenges, given both the relatively short history
of the bank and the tasks they will face in integrating with a new parent
from a cultural point of view and potentially from an operational perspective.
In summary, the bank has a high quality loan portfolio but has a
limited track record and faces significant challenges due to its expansion
plans and the change in control. Moody's assigns a baa3 Asset
Risk score to reflect all these factors.
SOLID CAPITAL AND LEVERAGE METRICS PROTECT THE BANK AGAINST DOWNSIDE RISK
TSB's tangible common equity (TCE) to risk-weighted assets (RWAs)
stood at 23.6% as of December 2014. However,
the pro forma ratio reflecting the changes in the method to calculate
its RWAs for credit cards, overdrafts and business banking from
a Standardised to an Internal Ratings-Base basis, shows a
decline by approximately 270 basis points to 20.9%.
Moody's believes that despite this material difference, the
ratio remains high and provides the bank with sufficient capital to absorb
unexpected losses and support growth ambitions. The bank's
leverage ratio is also strong and relatively high compared to UK peers,
at 5.8% as of December 2014.
On both a current and forward looking basis, Moody's sees
capital as one of TSB's main strengths and this results in a score
of aa3. This score, incorporates TSB's presently strong
capital metrics, but also our expectation that capital and leverage
ratios will decline as the bank increases its lending. It also
incorporates the results of our stress test, as the expected levels
of profitability under an adverse scenario would trigger a significant
decline in the regulatory capital ratio. However, even under
this scenario, using its current portfolio composition, the
bank would remain well above regulatory minimums.
EXPECTED LOW LEVELS OF PROFITABILITY, GIVEN HIGH COST BASE
Moody's considers that the main challenge for TSB is to improve
its profitability levels. TSB has a very large cost base due to
its large branch network, which compares unfavourably with the relatively
small size of its asset base. According to Moody's calculations,
TSB's cost-to-income ratio was 77.3%
as of December 2014. Despite the GBP230 million total profit that
TSB will likely receive from the mortgage enhancement portfolio provided
by LBG and the GBP450 million contribution from LBG to compensate the
bank for the implementation costs of IT migration, profitability
will likely remain under pressure until the bank is able to increase the
size of its credit portfolio or reduce its cost base. Since profitability
is a relative weakness and is not expected to remediate for a number of
years, Moody's assigns a score of b1, two notches below
the bank's macro-adjusted score.
LOW RELIANCE ON WHOLESALE FUNDING AND GRANULAR DEPOSIT BASE
In addition to capital, Moody's considers TSB's funding
profile as a strength. The bank's liability structure has
been designed with spare capacity for growth, including a significant
amount of excess deposits and a very low reliance on wholesale funding.
According to Moody's calculations, market funds as a proportion
of tangible banking assets was 1.2% as of December 2014.
Moody's understands that the bank would like to increase the size
of its loan book faster than the size of its deposit balances to improve
profitability. Although the bank also plans to increase the proportion
of wholesale funds on its balance sheet, Moody's believes
that these will remain at a relatively low level and therefore assigns
an aa2 score to TSB's Funding Structure.
ADEQUATE LIQUIDITY BUFFERS
Moody's believes that the bank has adequate liquidity buffers.
According to Moody's calculations, the bank's liquid
assets as a proportion of its tangible banking assets, stood at
18.4% as of December 2014. The rating agency expects
this ratio to show only a slight decline as the bank uses some of this
liquidity to expand its loan portfolio. However, the bank
could also maintain an increasing amount of additional liquidity in the
form of securitized bonds. As a result, Moody's assigns
a baa3 score to reflect these factors.
In aggregate, Moody's assigns a Financial Profile of baa1
to TSB.
Given that TSB's business activity will be initially limited to retail
banking operations, this relatively narrow focus results in Moody's
including a one-notch negative qualitative adjustment in respect
of business diversification resulting in a BCA of baa2.
At the moment TSB's BCA at baa2 exceeds the standalone rating of
its parent Banco Sabadell by four notches. This differential reflects
the very limited connections between the two institutions. Moody's
expects that over time increasing operational linkages are likely to develop
between the two institutions, which could affect TSB's stability
in the event its parent faces financial or operational challenges.
Therefore the current four-notch differential could narrow as the
IT migration plans are completed or Banco Sabadell's BCA improves
before TSB is able to build a stronger track record.
LONG-TERM DEPOSIT RATINGS
TSB is domiciled in the UK, a jurisdiction which is subject to the
EU Bank Resolution and Recovery Directive (BRRD), which Moody's
considers to be an Operational Resolution Regime. Moody's
assumes residual tangible common equity of 3% and losses post-failure
of 8% of tangible banking assets, a 25% run-off
in "junior" wholesale deposits, a 5% run-off in preferred
deposits, and assigns a 25% probability to deposits being
preferred to senior unsecured debt. These are in line with Moody's
standard assumptions. Particular to TSB and most mortgage lenders
in the UK, Moody's assumes the proportion of deposits considered
junior at 10%, relative to the standard assumption of 26%,
due to their largely retail-oriented deposit base.
Our Advanced loss-given failure (LGF) analysis indicates that TSB's
deposits and senior unsecured debt are likely to face moderate loss-given-failure,
due to the loss-absorption provided by the dated subordinated debt
issued by the holding company, TSB Banking Group, as well
as the volume of deposits themselves. This results in a Preliminary
Rating Assessment for TSB's deposits and potentially for senior unsecured
debt at the same level as the bank BCA at baa2. The positive outlook
reflects TSB's funding plans, which will likely involve the
issue of senior unsecured debt at the holding company, which would
provide additional protection to depositors and creditors of the operating
entity.
TSB Banking Group's senior unsecured and subordinated instruments are
likely to face a high loss-given-failure according to our
LGF analysis given the relatively small volume of existing debt and very
limited protection from more subordinated instruments and residual equity.
As a result, we assign an issuer rating of Baa3 to TSB Banking Group
and a Baa3 rating to its existing tier 2 dated subordinated bonds.
WHAT COULD MOVE THE RATING -- UP/DOWN
An upgrade in the bank's deposits and issuer ratings of the operating
company could be triggered by the issue of senior or subordinated debt
instruments at the holding company, which would provide protection
to depositors and creditors. An upgrade in the BCA driven by a
longer track record, reduced execution risk and improved levels
of profitability could also lead to an upgrade of all ratings.
Any such movement in TSB's BCA would however continue to be constrained
by the BCA of Banco Sabadell.
Conversely, a downgrade of TSB's rating could be driven by a deterioration
in the bank's asset quality, which could in turn pressure capital.
Sizable losses or successive periods of low/negative profits due to failure
to achieve a low cost base while increasing revenues would also put pressure
on the ratings. Negative pressure could also arise from higher
than expected deterioration in the bank's liquidity and profitability
metrics. Any increasing linkages between TSB and its parent,
could also lead to a reassessment of the rating relative to the ratings
of Banco Sabadell. In the absence of an upgrade of Banco Sabadell's
BCA, this situation could result in negative rating pressure for
the bank's ratings.
LIST OF ASSIGNED RATINGS
TSB Bank plc
- Long-Term Local Currency deposit rating: Baa2;
Outlook Positive
- Short-Term Local Currency deposit rating: Prime-2
- Long-Term Local Currency issuer rating: Baa2;
Outlook Positive
- Baseline Credit Assessment: baa2
- Adjusted Baseline Credit Assessment: baa2
- Counterparty Risk Assessment: A2(cr)/Prime-1(cr)
TSB Banking Group plc
- Long-Term Local Currency issuer rating: Baa3;
Outlook Stable
- Subordinate rating: Baa3
PRINCIPAL METHODOLOGY
The principal methodology used in these ratings was Banks published in
March 2015. Please see the Credit Policy page on www.moodys.com
for a copy of this methodology.
REGULATORY DISCLOSURES
For ratings issued on a program, series or category/class of debt,
this announcement provides certain regulatory disclosures in relation
to each rating of a subsequently issued bond or note of the same series
or category/class of debt or pursuant to a program for which the ratings
are derived exclusively from existing ratings in accordance with Moody's
rating practices. For ratings issued on a support provider,
this announcement provides certain regulatory disclosures in relation
to the rating action on the support provider and in relation to each particular
rating action for securities that derive their credit ratings from the
support provider's credit rating. For provisional ratings,
this announcement provides certain regulatory disclosures in relation
to the provisional rating assigned, and in relation to a definitive
rating that may be assigned subsequent to the final issuance of the debt,
in each case where the transaction structure and terms have not changed
prior to the assignment of the definitive rating in a manner that would
have affected the rating. For further information please see the
ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.
For any affected securities or rated entities receiving direct credit
support from the primary entity(ies) of this rating action, and
whose ratings may change as a result of this rating action, the
associated regulatory disclosures will be those of the guarantor entity.
Exceptions to this approach exist for the following disclosures,
if applicable to jurisdiction: Ancillary Services, Disclosure
to rated entity, Disclosure from rated entity.
The following information supplements Disclosure 10 ("Information
Relating to Conflicts of Interest as required by Paragraph (a)(1)(ii)(J)
of SEC Rule 17g-7") in the regulatory disclosures made at
the ratings tab on the issuer/entity page on www.moodys.com
for each credit rating as indicated:
Moody's was not paid for services other than determining a credit
rating in the most recently ended fiscal year by the person(s) that paid
Moody's to determine this credit rating.
Regulatory disclosures contained in this press release apply to the credit
rating and, if applicable, the related rating outlook or rating
review.
Please see www.moodys.com for any updates on changes to
the lead rating analyst and to the Moody's legal entity that has issued
the rating.
Please see the ratings tab on the issuer/entity page on www.moodys.com
for additional regulatory disclosures for each credit rating.
Carlos Suarez Duarte
Vice President - Senior Analyst
Financial Institutions Group
Moody's Investors Service Ltd.
One Canada Square
Canary Wharf
London E14 5FA
United Kingdom
JOURNALISTS: 44 20 7772 5456
SUBSCRIBERS: 44 20 7772 5454
Nicholas Hill
Managing Director
Financial Institutions Group
JOURNALISTS: 44 20 7772 5456
SUBSCRIBERS: 44 20 7772 5454
Releasing Office:
Moody's Investors Service Ltd.
One Canada Square
Canary Wharf
London E14 5FA
United Kingdom
JOURNALISTS: 44 20 7772 5456
SUBSCRIBERS: 44 20 7772 5454
Moody's assigns Baa2/P-2 ratings to TSB Bank plc and Baa3 ratings to TSB Banking Group plc
